Hosted by the European Central Bank (ECB) in Frankfurt on Tuesday, the world’s most powerful central bankers met to discuss how to unwind monetary policy.
The Bank of Japan (BoJ) and the ECB are still in the middle of massive quantitative easing programmes. However, the Bank of England (BoE) and the US Federal Reserve have long-seized their asset-buying programmes and have timidly embarked on raising interest rates.
The US Federal Reserve has raised interest rates four times and is looking at a fifth hike. Earlier this month, the BoE signaled its first rise in a decade. It should be recalled that the US, the UK, and Sweden were the first to introduce quantitative easing strategies after the Lehman Brothers collapse.
With nearly a decade of historically cheap liquidity, markets have reached all-time high liquidity: mergers and acquisitions have multiplied and fixed asset prices surged, particularly housing. The trend has widened income gaps, although it has also boosted employment.
However, with strong solid growth in developed economies, the times of cheap liquidity are nearing an end. The question is how to manage over-indebted states, households, and businesses. At the same time, fixed income pension funds, savers, and insurance companies have suffered.
On Tuesday, the ECB’s President Mario Draghi advocated the use of “’forward guidance” to guide markets in their transition to more expensive liquidity. But, the transition cannot be linear. Both the BoE and the ECB have to take into account contingencies, including Brexit.
Perhaps as significantly, the bankers know they are not likely to oversee unwinding. Janet Yellen is expected to be replaced in March 2018, Carney and Draghi in 2019. Only Kuroda is likely to be reappointed.
Given emerging markets exposed to dollarized debt, record high indebted households, bankers may be tempted to delay any major policy shift.